Item
2.
|
Management’s Discussion and Analysis of Financial Condition and
Results of Operations
|
The following discussion and analysis presents factors that Motorcar Parts of America, Inc. and its subsidiaries (“our,” “we” or “us”) believe are relevant
to an assessment and understanding of our consolidated financial position and results of operations. This financial and business analysis should be read in conjunction with our March 31, 2018 audited consolidated financial statements included in
our Annual Report on Form 10-K filed with the SEC on June 14, 2018.
Disclosure Regarding Private Securities Litigation Reform Act of 1995
This report may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 with respect to our future
performance that involve risks and uncertainties. Various factors could cause actual results to differ materially from those expressed or implied by such statements. These factors include, but are not limited to: concentration of sales to a small
number of customers; changes in the financial condition of or our relationship with any of our major customers; increases in the average accounts receivable collection period; the loss of sales to customers; delays in payments by customers; the
increasing customer pressure for lower prices and more favorable payment and other terms; lower revenues than anticipated from new and existing contracts; the increasing demands on our working capital; the significant strain on working capital
associated with large inventory purchases from customers; any meaningful difference between expected production needs and ultimate sales to our customers; investments in operational changes or acquisitions; our ability to obtain any additional
financing we may seek or require; our ability to maintain positive cash flows from operations; potential future changes in our previously reported results as a result of the identification and correction of errors in our accounting policies or
procedures or the potential material weaknesses in our internal controls over financial reporting; our failure to meet the financial covenants or the other obligations set forth in our credit agreement and the lenders’ refusal to waive any such
defaults; increases in interest rates; the impact of high gasoline prices; consumer preferences and general economic conditions; increased competition in the automotive parts industry including increased competition from Chinese and other
offshore manufacturers; difficulty in obtaining Used Cores and component parts or increases in the costs of those parts; political, criminal or economic instability in any of the foreign countries where we conduct operations; currency exchange
fluctuations; potential tariffs; unforeseen increases in operating costs; risks associated with cyber-attacks; risks associated with conflict minerals; the impact of new accounting pronouncements and tax laws, including the U.S. Tax Cuts and Jobs
Act, and interpretations thereof; uncertainties affecting our ability to estimate our tax rate and other factors discussed herein and in our other filings with the Securities and Exchange Commission (the “SEC”). These and other risks and
uncertainties may cause our actual results to differ materially and adversely from those expected in any forward-looking statements. Readers are directed to risks and uncertainties identified under “Risk Factors” included in our Annual Report on
Form 10-K filed with the SEC on June 14, 2018 and elsewhere in this report for additional detail regarding factors that may cause actual results to be different than those expressed in our forward-looking statements. Except as required by law, we
undertake no obligation to revise or update publicly any forward-looking statements for any reason.
Management Overview
We are a leading manufacturer, remanufacturer, and distributor of aftermarket automotive and
light truck applications. We also, to a lesser extent, are a manufacturer, remanufacturer, and distributor of heavy duty truck and industrial and agricultural application parts. These replacement parts are sold for use on vehicles after initial
vehicle purchase. These automotive parts are sold to automotive retail chain stores and warehouse distributors throughout North America and to major automobile manufacturers for both their aftermarket programs and warranty replacement programs
(“OES”). Our products include
(i) rotating electrical products such as alternators and starters, (ii) wheel hub assemblies and bearings, (iii) brake master cylinders, and (iv) other products which include turbochargers, brake power
boosters, and diagnostic equipment. As a result of our July 2017 acquisition of D&V Electronics Ltd. (“D&V”), our business also now includes developing and selling diagnostics
systems for alternators, starters, belt-start generators (stop start and hybrid technology), and electric power trains for electric vehicles
.
The automotive and light truck parts aftermarket is divided into two markets. The first is
the do-it-yourself (“DIY”) market, which is generally serviced by the large retail chain outlets. Consumers who purchase parts from the DIY channel generally install parts into their vehicles themselves. In most cases, this is a less expensive
alternative than having the repair performed by a professional installer. The second is the professional installer market, commonly known as the do-it-for-me (“DIFM”) market. The traditional warehouse distributors, the dealer networks, and the
commercial divisions of retail chains service this market. Generally, the consumer in this channel is a professional parts installer.
Our products are distributed to both the DIY and DIFM markets.
The heavy duty truck, industrial and agricultural aftermarket has some overlap with the automotive aftermarket as discussed above, but also has specialty
distribution channels through the OES channel and auto-electric distributor channels.
In addition, we are in the business of diagnostic equipment for alternators, starters, belt-starter generators (stop start and hybrid technology), and
electric power trains for electric vehicles. The smallest but fastest growing segment of the global market for diagnostics is the electric vehicle market.
Pursuant to the guidance provided under the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”), for segment reporting,
we have identified our chief executive officer as our chief operating decision maker (“CODM”), have reviewed the documents used by the CODM, and understand how such documents are used by the CODM to make financial and operating decisions. We have
determined through this review process that we have one reportable segment for purposes of recording and reporting our financial results.
Revision of Prior Period Financial Statements
During the second quarter ended September 30, 2018, we identified and corrected immaterial errors that affected previously issued consolidated financial
statements. These errors primarily related to historical misapplication of GAAP related to the timing of recognizing certain expenses incurred in connection with allowances paid for core inventory purchase obligations at the start of a new
business relationship. We previously recorded the difference between the acquisition price of Remanufactured Cores purchased from customers generally in connection with new business, and the related inventory cost as a sales allowance reducing
revenue when the purchases were made. These sales allowances are now recorded as an asset and recognized as a reduction of revenue through the later of the date at which related revenue is recognized or the date at which the sales incentive is
offered. We also corrected errors resulting from differences between the original cost estimate and the actual cost of the Remanufactured Cores held at customers’ locations.
We also corrected other immaterial errors, which primarily relate to bonus accruals and core inventory, and recorded certain adjustments to income taxes,
including reflecting the tax effect of the aforementioned adjustments (see Note 2, Impact on Previously Issued Financial Statements for the Correction of an Error). In addition, we reclassified certain customer contract related prepayments from
prepaid expenses and other current assets and other assets to contract assets related to the adoption of ASC 606 on April 1, 2018 (see Note 4, Revenue Recognition).
As of June 30, 2018, the cumulative error for all periods previously reported was an
understatement of net income of $2,938,000. We assessed the materiality, both quantitatively and qualitatively, in accordance with the SEC’s Staff Accounting Bulletin (“SAB”) No. 99 and SAB No. 108, and concluded that these errors were not
material to any of our previously issued financial statements. However, we determined that the cumulative correction of these errors would have had a material effect on the financial results for the three and six months ended September 30,
2018. Accordingly, in order to correctly present the errors noted above, previously issued financial statements have been revised. In addition, upon
the adoption of ASC 606
on April 1, 2018, we adjusted our revised consolidated financial statements which are presented as “As Adjusted” in the following tables.
Results of Operations for the Three Months Ended September 30, 2018 and 2017
The following discussion and analysis should be read together with the financial statements and notes thereto appearing elsewhere herein.
The following summarizes certain key operating data:
|
|
Three Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
|
|
|
(As Adjusted)
|
|
Gross profit percentage
|
|
|
20.1
|
%
|
|
|
23.6
|
%
|
Cash flow used in operations
|
|
$
|
(5,485,000
|
)
|
|
$
|
(7,504,000
|
)
|
Finished goods turnover (annualized) (1)
|
|
|
3.9
|
|
|
|
3.5
|
|
(1)
|
Annualized finished goods turnover for the fiscal quarter is calculated by multiplying cost of goods sold for the quarter by 4 and dividing the result by the average
between beginning and ending finished goods inventory values for the fiscal quarter. With the adoption of ASC 606, our inventory now includes all on-hand core inventory. We believe this provides a useful measure of our ability to turn
our inventory into revenues.
|
Net Sales and Gross Profit
The following summarizes net sales and gross profit:
|
|
Three Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
|
|
|
(As Adjusted)
|
|
Net sales
|
|
$
|
127,939,000
|
|
|
$
|
110,261,000
|
|
Cost of goods sold
|
|
|
102,228,000
|
|
|
|
84,234,000
|
|
Gross profit
|
|
|
25,711,000
|
|
|
|
26,027,000
|
|
Gross profit percentage
|
|
|
20.1
|
%
|
|
|
23.6
|
%
|
Net Sales
. Our net sales for the three months ended September 30,
2018 increased by $17,678,000, or 16.0%, to $127,939,000 compared to net sales for the three months ended September 30, 2017 of $110,261,000. We have experienced growth mainly in rotating electrical products due to higher replenishment orders and
new business awarded to us. In addition, our net sales were positively impacted by sales of diagnostics equipment, which resulted from our July 2017 acquisition of D&V. In addition, we had significant customer allowances related to new
business, as discussed below in the Gross Profit paragraph.
Gross Profit.
Our gross profit percentage was 20.1% for the three
months ended September 30, 2018 compared to 23.6% for the three months ended September 30, 2017. Gross profit for the three months ended September 30, 2018 was impacted by (i) transition expenses of $1,833,000 in connection with the expansion of
our operations in
Me
xico (i
i) $1,198,000 of
customer allowances related to new business, and (iii) $1,015,000 of amortization of core premiums paid to customers related to new business. Gross margins were additionally impacted by higher freight costs compared to the prior year and stock
adjustment accruals.
Gross profit for the three months ended September 30, 2017 was impacted by (i) $2,496,000 for initial return and stock adjustment
accruals related to new business less a cost of goods sold offset of $362,000 and (ii) $921,000 of amortization of core premiums paid to customers related to new business.
In addition, our gross profit was further impacted by the non-cash revaluation write-down for remanufactured cores held at customers’ locations of
$6,221,000 for the three months ended September 30, 2018 and $2,726,000 for the three months ended September 30, 2017.
Operating Expenses
The following summarizes operating expenses:
|
|
Three Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
|
|
|
(As Adjusted)
|
|
General and administrative
|
|
$
|
8,997,000
|
|
|
$
|
8,615,000
|
|
Sales and marketing
|
|
|
4,537,000
|
|
|
|
3,457,000
|
|
Research and development
|
|
|
1,784,000
|
|
|
|
1,240,000
|
|
|
|
|
|
|
|
|
|
|
Percent of net sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative
|
|
|
7.0
|
%
|
|
|
7.8
|
%
|
Sales and marketing
|
|
|
3.5
|
%
|
|
|
3.1
|
%
|
Research and development
|
|
|
1.4
|
%
|
|
|
1.1
|
%
|
General and Administrative.
Our general and administrative
expenses for the three months ended September 30, 2018 were $8,997,000, which represents an increase of $382,000, or 4.4%, from general and administrative expenses for the three months ended September 30, 2017 of $8,615,000. This increase was
primarily due to (i) $415,000 for personnel to support our growth initiatives, (ii) $385,000 of net increases in general and administrative expenses due primarily to fluctuations in Asian foreign currency exchange rates during the quarter, (iii)
$312,000 of increased general and administrative expenses primarily at our Mexico locations to support our growth initiatives, (iv) $222,000 of increased bad debt expense, and (v) $177,000 of increased depreciation expense due to higher capital
expenditures. These increases were partially offset by a comparative decrease in expenses of $2,228,000 due to a gain of $1,898,000 recorded due to the change in the fair value of the forward foreign currency exchange contracts for the three
months ended September 30, 2018 compared to a loss of $330,000 recorded for the three months ended September 30, 2017. In addition, the three months ended September 30, 2017 included a gain of $1,020,000 recorded due to the change in the fair
value of the warrant liability, which was settled on September 8, 2017.
Sales and Marketing
. Our sales and marketing expenses for the
three months ended September 30, 2018 increased $1,080,000, or 31.2%, to $4,537,000 from $3,457,000 for the three months ended September 30, 2017. The increase was due primarily to (i) $358,000 of increased marketing expense in connection with
new business, (ii) $235,000 of increased commissions, (iii) $231,000 of increased sales and marketing expenses attributable to our July 2017 acquisition of D&V, and (iv) $178,000 for personnel to support our growth initiatives.
Research and Development
. Our research and development expenses
increased by $544,000, or 43.9%, to $1,784,000 for the three months ended September 30, 2018 from $1,240,000 for the three months ended September 30, 2017. The increase was due primarily to (i) $305,000 for personnel to support our growth
initiatives, (ii) $124,000 of increased research and development expenses attributable to our July 2017 acquisition of D&V, and (iii) $85,000 of increased supplies.
Interest Expense
Interest Expense, net.
Our interest expense, net for the three months ended September 30, 2018 increased $2,177,000, or 61.8%, to $5,699,000 from $3,522,000 for the three months ended September 30, 2017. The increase in interest expense was due
primarily to a (i) an increase in the utilization of our accounts receivable discount programs, (ii) increased average outstanding borrowings as we
build our inventory levels to support anticipated higher sales, and (iii) higher
interest rates on our average outstanding borrowings under our credit facility
.
Provision for Income Taxes
Income Tax
. We recorded income tax expense for the three months ended September 30, 2018 and 2017, of $1,181,000, or an effective tax rate of 25.2%, and $3,598,000, or an effective tax rate of 39.1%, respectively.
On December 22, 2017,
the Tax Cuts and Jobs Act (the “Tax Reform Act”) was enacted into law,
which changed various corporate income tax provisions within the existing Internal Revenue Code
. The Tax
Reform Act, among other things, lowered the U.S. corporate tax rate from 35% to 21% effective January 1, 2018, while also repealing the deduction for domestic production activities, implementing a territorial tax system and imposing a
repatriation tax on deemed repatriated earnings of foreign subsidiaries.
Results of Operations for the Six Months Ended September 30, 2018 and 2017
The following discussion and analysis should be read together with the financial statements and notes thereto appearing elsewhere herein.
The following summarizes certain key operating data:
|
|
Six Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
|
|
|
(As Adjusted)
|
|
Gross profit percentage
|
|
|
19.2
|
%
|
|
|
25.3
|
%
|
Cash flow used in operations
|
|
$
|
(6,409,000
|
)
|
|
$
|
(8,148,000
|
)
|
Finished goods turnover (annualized) (1)
|
|
|
3.7
|
|
|
|
3.5
|
|
(1)
|
Annualized finished goods turnover for the fiscal period is calculated by multiplying cost of goods sold for the period by 2 and dividing the result by the average
between beginning and ending finished goods inventory values for the fiscal period. With the adoption of ASC 606, our inventory now includes all on-hand core inventory. We believe this provides a useful measure of our ability to turn
our inventory into revenues.
|
Net Sales and Gross Profit
The following summarizes net sales and gross profit:
|
|
Six Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
|
|
|
(As Adjusted)
|
|
Net sales
|
|
$
|
219,607,000
|
|
|
$
|
204,956,000
|
|
Cost of goods sold
|
|
|
177,544,000
|
|
|
|
153,077,000
|
|
Gross profit
|
|
|
42,063,000
|
|
|
|
51,879,000
|
|
Gross profit percentage
|
|
|
19.2
|
%
|
|
|
25.3
|
%
|
Net Sales
. Our net sales for the six months ended September 30,
2018 increased by $14,651,000, or 7.1%, to $219,607,000 compared to net sales for the six months ended September 30, 2017 of $204,956,000. We have experienced year-over-year market share growth mainly in rotating electrical products. In addition,
our net sales were positively impacted by sales of diagnostics equipment, which resulted from our July 2017 acquisition of D&V. Our net sales of wheel hub products and brake master cylinder products continued to be softer. In addition, we had
significant customer allowances related to new business and increased stock adjustment accruals related to commitments for future update orders. These allowances and return accruals were a reduction to our recognized sales, as discussed below in
the Gross Profit paragraph.
Gross Profit.
Our gross profit percentage was 19.2% for the six
months ended September 30, 2018 compared to 25.3% for the six months ended September 30, 2017. Gross profit for the six months ended September 30, 2018 was impacted by (i) transition expenses of $3,588,000 in connection with the expansion of our
operations in Mexico, (ii) $2,373,000 of customer allowances related to new business, and (iii) $1,982,000 of amortization of core premiums paid to customers related to new business. Gross margins were additionally impacted by higher freight
costs compared to the prior year, stock adjustment accruals and
lower absorption of overhead costs
.
Gross profit for the six months ended September 30, 2017 was impacted by (i) $2,496,000 for initial return and stock adjustment accruals related to new business less a cost of goods sold offset
of $362,000 and (ii) $1,745,000 of amortization of core premiums paid to customers related to new business.
In addition, our gross profit was further impacted by the non-cash revaluation write-down
for
remanufactured cores held at customers’ locations of $8,847,000 for the six months ended September 30, 2018 and $4,076,000 for the six months ended September 30, 2017.
Operating Expenses
The following summarizes operating expenses:
|
|
Six Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
|
|
|
(As Adjusted)
|
|
General and administrative
|
|
$
|
21,088,000
|
|
|
$
|
14,503,000
|
|
Sales and marketing
|
|
|
8,929,000
|
|
|
|
6,851,000
|
|
Research and development
|
|
|
3,520,000
|
|
|
|
2,242,000
|
|
|
|
|
|
|
|
|
|
|
Percent of net sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative
|
|
|
9.6
|
%
|
|
|
7.1
|
%
|
Sales and marketing
|
|
|
4.1
|
%
|
|
|
3.3
|
%
|
Research and development
|
|
|
1.6
|
%
|
|
|
1.1
|
%
|
General and Administrative.
Our general and administrative
expenses for the six months ended September 30, 2018 were $21,088,000, which represents an increase of $6,585,000, or 45.4%, from general and administrative expenses for the six months ended September 30, 2017 of $14,503,000. This increase was
primarily due to (i) comparative increase in expenses of $1,490,000 due to a loss of $768,000 recorded due to the change in the fair value of the forward foreign currency exchange contracts for the six months ended September 30, 2018 compared to
a gain of $722,000 recorded for the six months ended September 30, 2017, (ii) $492,000 of increased general and administrative expenses primarily at our Mexico location to support our growth initiatives, (iii) $488,000 of increased professional
services for transactions during the period relating to expansion and fees related to the adoption of ASC 606, (iv) $478,000 of increased general and administrative expenses attributable to our July 2017 acquisition of D&V, (v) $377,000 of
increased share-based compensation, (vi) $376,000 of increased depreciation, (vii) $208,000 of increased bad debt expense, and (viii) $198,000 of net increases in general and administrative expenses due primarily to fluctuations in Asian foreign
currency exchange rates. In addition, the six months ended September 30, 2017 included a gain of $2,313,000 recorded due to the change in the fair value of the warrant liability, which was settled on September 8, 2017.
Sales and Marketing
. Our sales and marketing expenses for the six
months ended September 30, 2018 increased $2,078,000, or 30.3%, to $8,929,000 from $6,851,000 for the six months ended September 30, 2017. The increase was due primarily to (i) $721,000 of increased sales and marketing expenses attributable to
our July 2017 acquisition of D&V, (ii) $426,000 for personnel to support our growth initiatives, (iii) $302,000 of increased marketing expenses in connection with new business, (iv) $267,000 of increased commissions, (v) $218,000 of increased
trade show expenses, and (vi) $111,000 of increased advertising expense.
Research and Development
. Our research and development expenses
increased by $1,278,000, or 57.0%, to $3,520,000 for the six months ended September 30, 2018 from $2,242,000 for the six months ended September 30, 2017. The increase was due primarily to (i) $561,000 for personnel to support our growth
initiatives, (ii) $515,000 of increased research and development expenses attributable to our July 2017 acquisition of D&V, and (iii) $221,000 of increased supplies.
Interest Expense
Interest Expense, net.
Our interest expense, net for the six months ended September 30, 2018 increased $3,938,000, or 57.6%, to $10,774,000 from $6,836,000 for the six months ended September 30, 2017. The increase in interest expense was due
primarily to (i) an increase in the utilization of and higher interest rates on our accounts receivable discount programs, (ii) increased average outstanding borrowings as we
build our inventory levels to support anticipated higher
sales, (iii)
the write-off of $303,000 of previously capitalized debt issuance costs in connection with the amendment to our credit facility,
and (iv) higher interest rates
on our average outstanding borrowings under our credit facility
.
Provision for Income Taxes
Income Tax
. We recorded an income tax benefit of $266,000, or an effective tax rate of 11.8%, for the six months ended September 30, 2018 compared to income tax expense
for the six months ended September 30, 2017 of $8,032,000, or an
effective tax rate of 37.5%. On December 22, 2017, the Tax Reform Act was enacted into law,
which changed various corporate income tax provisions within the existing Internal Revenue
Code
. The Tax Reform Act, among other things, lowered the U.S. corporate tax rate from 35% to 21% effective January 1, 2018, while also repealing the deduction for domestic production activities, implementing a territorial tax system and
imposing a repatriation tax on deemed repatriated earnings of foreign subsidiaries.
Liquidity and Capital Resources
Overview
We had working capital (current assets minus current liabilities) of $92,626,000 and $90,287,000, a ratio of current assets to current liabilities of
1.4:1.0 and 1.5:1.0, at September 30, 2018 and March 31, 2018, respectively. The increase in working capital was due primarily to the build-up of our inventory to support anticipated higher sales.
We generated cash during the six months ended September 30, 2018 from the use of receivable discount programs as well as from our credit facility. The cash
generated from these activities was used primarily to build our inventory levels to support anticipated higher sales and to purchase shares under our share repurchase program.
In June 2018, we entered into an amended and restated credit facility consisting of a $200,000,000 revolving loan facility and a $30,000,000 term loan
facility, maturing in June 2023.
In November 2018, we entered into the First Amendment to the
Amended Credit Facility (the “First Amendment”). The First Amendment, among other things, extended the due date for the quarterly financial statements required to be delivered under the Amended Credit Facility for the quarter ended September
30, 2018.
We believe our cash and cash equivalents, short-term investments, use of receivable discount programs, amounts available under our credit facility, and
other sources are sufficient to satisfy our expected future working capital needs, repayment of the current portion of our term loans, and lease and capital expenditure obligations over the next 12 months.
Share Repurchase Program
As of September 30, 2018, our board of directors had approved a stock repurchase program of up to $37,000,000 of our common stock. As of September 30,
2018, $15,692,000 of the $37,000,000 had been utilized and $21,308,000 remained available to repurchase shares under the authorized share repurchase program, subject to the limit in our credit facility. We retired the 675,561 shares repurchased
under this program through September 30, 2018. Our share repurchase program does not obligate us to acquire any specific number of shares and shares may be repurchased in privately negotiated and/or open market transactions.
Cash Flows
The following summarizes cash flows as reflected in the consolidated statements of cash flows:
|
|
Six Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
Cash provided by (used in):
|
|
|
|
|
|
|
Operating activities
|
|
$
|
(6,409,000
|
)
|
|
$
|
(8,148,000
|
)
|
Investing activities
|
|
|
(5,481,000
|
)
|
|
|
(7,660,000
|
)
|
Financing activities
|
|
|
5,112,000
|
|
|
|
21,827,000
|
|
Effect of exchange rates on cash and cash equivalents
|
|
|
(96,000
|
)
|
|
|
42,000
|
|
Net decrease in cash and cash equivalents
|
|
$
|
(6,874,000
|
)
|
|
$
|
6,061,000
|
|
|
|
|
|
|
|
|
|
|
Additional selected cash flow data:
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
$
|
3,218,000
|
|
|
$
|
2,153,000
|
|
Capital expenditures
|
|
|
5,259,000
|
|
|
|
2,460,000
|
|
Net cash used in operating activities was $6,409,000 and $8,148,000 during the six months ended September 30, 2018 and 2017, respectively. The significant
changes in our operating activities during the six months ended September 30, 2018 as compared to the six months ended September 30, 2017 were due primarily to (i) an increase in accounts payable during the six months ended September 30, 2018
compared to a decrease during the six months ended September 30, 2017, (ii)
decreased operating results (net income plus net add-back for non-cash transactions in earnings),
(iii) the build-up of our inventory to support anticipated higher sales, and (iv) accrued core payments to customers of $15,056,000 during the six months ended September 30, 2018.
Net cash used in investing activities was $5,481,000 and $7,660,000 during the six months ended September 30, 2018 and 2017, respectively. The significant
change in our investing activities during the six months ended September 30, 2018 as compared to the six months ended September 30, 2017 was due primarily to increased capital expenditures
for the purchase of equipment for our current operations and the expansion of our operations in Mexico
. In addition, we used $4,974,000 of cash in prior year for our July 2017 acquisition of D&V.
Net cash provided by financing activities was $5,112,000 and $21,827,000 during the six months ended September 30, 2018 and 2017, respectively. The
significant change in our financing activities during the six months ended September 30, 2018 as compared to the six months ended September 30, 2017 was due mainly to decreased net borrowing under our credit facility. In addition, the six months
ended September 30, 2017 included cash received upon the settlement of outstanding warrants.
Capital Resources
Credit Facility
We were a party to a $145,000,000 senior secured financing, (as amended from time to time, the “Credit Facility”) with a syndicate of lenders, and PNC Bank,
National Association, as administrative agent, consisting of (i) a $120,000,000 revolving loan facility, subject to borrowing base restrictions and a $15,000,000 sublimit for letters of credit (the “Revolving Facility”) and (ii) a $25,000,000
term loan facility (the “Term Loans”). The loans under the Credit Facility were scheduled to mature on June 3, 2020. In connection with the Credit Facility, the lenders were granted a security interest in substantially all of our assets. Our
Credit Facility permitted the payment of up to $15,000,000 of dividends per calendar year, subject to a minimum availability threshold and pro forma compliance with financial covenants. The Term Loans required quarterly principal payments of
$781,250. The interest rate on our Term Loans and Revolving Facility was 4.42% and 4.52%, respectively, as of March 31, 2018.
In June 2018, we entered into an amendment and restatement of the Credit Facility (as so amended and restated, the “Amended Credit Facility”) with a
syndicate of lenders, and PNC Bank, National Association, as administrative agent, consisting of (i) a $200,000,000 revolving loan facility, subject to borrowing base restrictions, a $20,000,000 sublimit for borrowings by Canadian borrowers, and
a $15,000,000 sublimit for letters of credit (the “Amended Revolving Facility”) and (ii) a $30,000,000 term loan facility (the “Amended Term Loans”). The loans under the Amended Credit Facility mature on June 5, 2023. The Amended Credit Facility
permits the payment of up to $20,000,000 of dividends per fiscal year, subject to a minimum availability threshold and pro forma compliance with financial covenants. In connection with the Amended Credit Facility, the lenders were granted a
security interest in substantially all of our assets. We
wrote-off $303,000 of previously capitalized debt issuance costs and capitalized $1,757,000 of new debt issuance costs in
connection with the Amended Credit Facility.
The Amended Term Loans required quarterly principal payments of $937,500 beginning October 1, 2018. The Amended Credit Facility bears interest at rates
equal to either LIBOR plus a margin of 2.25%, 2.50% or 2.75% or a reference rate plus a margin of 1.25%, 1.50% or 1.75%, in each case depending on the senior leverage ratio as of the applicable measurement date. There is also a facility fee of
0.375% to 0.50%, depending on the senior leverage ratio as of the applicable measurement date. The interest rate on our Amended Term Loans and Amended Revolving Facility was 4.58% and 4.66%, respectively, as of September 30, 2018.
On November 14, 2018, we entered into the First Amendment to the
Amended Credit Facility (the “First Amendment”). The First Amendment, among other things, extended the due date for the quarterly financial statements required to be delivered under the Amended Credit Facility for the quarter ended September
30, 2018.
The Amended Credit Facility, among other things, requires us to maintain certain financial covenants including a maximum senior leverage ratio and a minimum
fixed charge coverage ratio. We were in compliance with all financial covenants pursuant to the First Amendment as of September 30, 2018.
The following summarizes the financial covenants required under the Amended Credit Facility:
|
|
Calculation as of
September 30, 2018
|
|
|
Financial covenants
required under the
Amended Credit
Facility
|
|
Maximum senior leverage ratio
|
|
|
1.10
|
|
|
|
3.00
|
|
Minimum fixed charge coverage ratio
|
|
|
1.29
|
|
|
|
1.10
|
|
In addition to other covenants, the Amended Credit Facility places limits on our ability to incur liens, incur additional indebtedness, make loans and
investments, engage in mergers and acquisitions, engage in asset sales, redeem or repurchase capital stock, alter the business conducted by us and our subsidiaries, transact with affiliates, prepay, redeem or purchase subordinated debt, and amend
or otherwise alter debt agreements.
We had $52,906,000 and $54,000,000 outstanding under the revolving facility at September 30, 2018 and March 31, 2018, respectively. In addition, $734,000
was reserved for letters of credit at September 30, 2018. At September 30, 2018, after certain adjustments, $141,367,000 was available under the Amended Revolving Facility.
Receivable Discount Programs
We use receivable discount programs with certain customers and their respective banks. Under these programs, we have options to sell those customers’
receivables to those banks at a discount to be agreed upon at the time the receivables are sold. These discount arrangements allows us to accelerate receipt of payment on customers’ receivables. While these arrangements have reduced our working
capital needs, there can be no assurance that these programs will continue in the future. Interest expense resulting from these programs would increase if interest rates rise, if utilization of these discounting arrangements expands, if customers
extend their payment to us, or if the discount period is extended to reflect more favorable payment terms to customers.
The following is a summary of the receivable discount programs:
|
|
Six Months Ended
September 30,
|
|
|
|
2018
|
|
|
2017
|
|
Receivables discounted
|
|
$
|
191,849,000
|
|
|
$
|
175,209,000
|
|
Weighted average days
|
|
|
338
|
|
|
|
341
|
|
Annualized weighted average discount rate
|
|
|
4.1
|
%
|
|
|
3.1
|
%
|
Amount of discount as interest expense
|
|
$
|
7,441,000
|
|
|
$
|
5,090,000
|
|
Off-Balance Sheet Arrangements
At September 30, 2018, we had no off-balance sheet financing or other arrangements with unconsolidated entities or financial partnerships (such as entities
often referred to as structured finance or special purpose entities) established for purposes of facilitating off-balance sheet financing or other debt arrangements or for other contractually narrow or limited purposes.
Capital Expenditures and Commitments
Capital Expenditures
Our total capital expenditures, including capital leases, were $5,259,000 and $2,958,000 for the six months ended September 30, 2018 and 2017, respectively.
These capital expenditures primarily include the purchase of equipment for our current operations and the expansion of our operations in Mexico. We expect to incur approximately $17,000,000 of capital expenditures in fiscal 2019 to support our
growth initiatives and continued expansion of our operations in Mexico. We have used and expect to continue using our working capital and additional capital lease obligations to finance these capital expenditures.
Litigation
There have been no material changes to our litigation matters that are presented in our Annual Report on Form 10-K for the year ended March 31, 2018, which
was filed on June 14, 2018.
Critical Accounting Policies
There have been no material changes to our critical accounting policies and estimates that are presented in our Annual Report on Form 10-K for the year
ended March 31, 2018, which was filed on June 14, 2018, except as discussed below.
New Accounting Pronouncements Recently Adopted
Revenue Recognition
Effective April 1, 2018, we adopted Accounting Standards Codification Topic 606,
Revenue from Contracts with Customers,
(“ASC 606”) using the full retrospective transition method. Under this method, we adjusted our revised consolidated financial statements for the years ended March 31, 2017 and
2018 (see Note 2, Impact on Previously Issued Financial Statements for the Correction of an Error), and applicable interim periods within the fiscal year ended March 31, 2018, as if ASC 606 had been effective for those periods. Periods prior to
the fiscal year ended March 31, 2017 were not adjusted and continue to be reported in accordance with our historic accounting under Topic 605,
Revenue
Recognition
. ASC 606 applies to all contracts with customers, except for contracts that are within the scope of other standards. Under ASC 606, an entity recognizes revenue when its customer obtains control of promised goods or
services, in an amount that reflects the consideration which the entity expects to receive in exchange for those goods or services. To determine revenue recognition for arrangements that an entity determines are within the scope of ASC 606, we
perform the following five steps: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations
in the contract; and (v) recognize revenue when (or as) we satisfy a performance obligation. We only apply the five-step model to contracts when it is probable that we will collect the consideration we are entitled to in exchange for the goods
or services we transfer to the customer. At contract inception, once the contract is determined to be within the scope of ASC 606, we assess the goods or services promised within each contract and determine those that are distinct performance
obligations. See Note 4, Revenue Recognition, for additional discussion of the adoption of ASC 606 and the impact on our financial statements.
Financial Instruments
In January 2016, the FASB issued guidance that amends the classification and measurement of financial instruments. Changes to the current guidance primarily
affect the accounting for equity investments, financial liabilities under the fair value option, and the presentation and disclosure requirements for financial instruments. In addition, the update clarifies guidance related to the valuation
allowance assessment when recognizing deferred tax assets resulting from unrealized losses on available-for-sale debt securities. This guidance was effective for fiscal years, and interim periods within those fiscal years, beginning after
December 15, 2017. We applied the amendments in the new guidance by means of a cumulative-effect adjustment of $746,000, net of tax, to the opening balance of retained earnings on April 1, 2018. Short-term investments are recorded at fair value
with $111,000 and $180,000 of unrealized gain now recorded as a component of general and administrative expense for the three and six months ended September 30, 2018, respectively.
Modifications to Share-Based Payment Awards
In May 2017, the FASB issued guidance to provide clarity and reduce (i) the diversity in practice and (ii) the cost and complexity when applying the
accounting guidance for equity-based compensation to a change to the terms or conditions of a share-based payment award. This update provides guidance about which changes to the terms or conditions of a share-based payment award require an entity
to apply modification accounting. This guidance was effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017 with early adoption permitted. This guidance should be applied prospectively to
an award modified on or after that adoption date. The adoption of this guidance on April 1, 2018 did not have any impact on our consolidated financial statements.
Business Combinations
In January 2017, the FASB issued guidance which clarifies the definition of a business to assist entities with evaluating whether transactions should be
accounted for as acquisitions (or disposals) of assets or businesses.
The new guidance was effective for fiscal years beginning after December 15, 2017, including interim periods
within those fiscal years.
A reporting entity should apply the amendment prospectively
. The adoption of this guidance on April 1, 2018 did not have any impact on our
consolidated financial statements.
New Accounting Pronouncements Not Yet Adopted
Leases
In February 2016, the FASB issued new guidance that requires balance sheet recognition of a right-of-use asset and lease liability by lessees for operating
leases.
There have been further amendments, including practical expedients, issued in January 2018 and July 2018.
The new guidance also requires new disclosures providing
additional qualitative and quantitative information about the amounts recorded in the financial statements. The new guidance is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years.
Early adoption is permitted. The new guidance requires a modified retrospective approach with optional practical expedients. We will adopt this guidance in the first quarter of fiscal 2020. We have developed and are executing on an implementation
plan to adopt this new guidance. We have identified all of our material leases and are assessing those leases pursuant to ASC 842. We are currently developing our methodology for determining our incremental borrowing rate. The adoption is
anticipated to have a significant increase to our long-term assets and liabilities on the consolidated balance sheets, as we will now be required to recognize the underlying right of use asset and corresponding lease liability, and an
insignificant impact on the consolidated statements of operations.
Goodwill Impairment
In January 2017, the FASB issued guidance which simplifies the test for goodwill impairment.
This standard eliminates Step 2 from the goodwill impairment test, instead requiring an entity to recognize a goodwill impairment charge for the amount by which the goodwill carrying amount exceeds the reporting unit’s fair value. This guidance
is effective for interim and annual goodwill impairment tests in fiscal years beginning after December 15, 2019 with early adoption permitted. This guidance must be applied on a prospective basis.
We are currently evaluating the impact
the provisions of this guidance will have on our consolidated financial statements.
Derivatives and Hedging
In August 2017, the FASB issued guidance to improve the financial reporting of hedging relationships to better portray the economic results of an entity’s
risk management activities in its financial statements. The amendments in this update also make certain targeted improvements to simplify the application of the hedge accounting guidance in current GAAP. The new guidance is effective for fiscal
years beginning after December 15, 2018, including interim periods within those fiscal years; the guidance allows for early adoption in any interim period after issuance of the update. We are currently evaluating the impact this guidance will
have on our consolidated financial statements.
Reporting Comprehensive Income
In February 2018, the FASB issued guidance that
permits, but does not require, companies to reclassify the stranded tax effects of the Tax Reform Act on items within accumulated other comprehensive income to retained earnings. This guidance is effective for
fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted.
We are currently evaluating the impact this
guidance will have on our consolidated financial statements.
Fair Value Measurements
In August 2018, the FASB issued guidance
,
which changes the disclosure requirements for fair value measurements by removing, adding and modifying certain disclosures. The
standard is effective for financial statements issued for fiscal years beginning after December 15, 2019. Early adoption is permitted.
We are currently evaluating the impact this guidance will have on our consolidated financial
statements.
Subsequent Event
Acquisition
On December 21, 2018, we completed the acquisition of Mechanical Power Conversion LLC, a privately held company operating as E&M Power and engaged in
the design and manufacture of advanced power emulators (AC and DC) and custom power electronic products, based in Binghamton, New York. The assets and results of operations were not significant to our consolidated financial position or results of
operations, and thus pro forma information is not presented.